Presently, Banks and large Finance Companies (herein “Intermediaries”) and Niche Finance Companies (herein “Contractors,”—in some instances, large Finance Companies may also act as a Contractor) all provide financial products, for example loans, leases and/or factoring programs (herein “Financial Products”) directly to Customers. Typically, Intermediaries have a money cost advantage over Contractors by virtue of their size and financial strength. In this regard, Banks have the further advantage of being Depository Institutions. Additionally, Intermediaries also have a marketing cost advantage over Contractors brought about by their “brick-and-mortar” branch networks and the positive perception Customers have of a Bank or large Finance Company.
Because of the particular advantages Intermediaries possess over Contractors, Intermediaries tend to specialize in low cost (which assumes low risk) Financial Products. Due to the typically high quality of the Customer or its collateral, such low cost Financial Products require no monitoring whatsoever, or only passive monitoring in some cases. Intermediaries will also compete for higher risk Financial Products (i.e., those requiring more active monitoring), especially when the economy is doing well.
Contractors typically enjoy advantages over Intermediaries in terms of products offered, geography (i.e., ability to service Customers without regard to physical location) and expertise in handling certain types of Financial Products. As such, Contractors tend to specialize in higher margin (which assumes higher risk) Financial Products. Part of the “higher” margin goes to programs such as loan loss reserves, and part to more sophisticated Financial Product monitoring and structuring mechanisms required by the risky nature of the Customer or its collateral. The remainder is higher profit for the higher risk (if all goes well). Contractors will also compete for lower risk Financial Products (those requiring passive monitoring), especially when Intermediaries invade the Contractor's territory during good economic times.
The fact that Intermediaries and Contractors offer different advantages to the market is helpful to address most every Customer's needs. However, it becomes problematic when money is easily available (supply of money is high) and Customers' need to borrow lessens (demand for money is low), such as occurs during a good economy. During these healthy economic times, an Intermediary's desire to employ its abundance of funds causes it to take more risk, even without the expertise to do so profitably.
As Intermediaries pull Customers from a higher risk market with already decreased demand, Contractors lower their rates in an effort to keep business flowing. This reaction either lowers profits or forces under-funded loan loss reserves for the Contractors. As good economic times continue, the competition escalates to the point where margins are so low and risk so high that “bad” Loans are literally booked. The longer these conditions exist, the more “bad” Loans build up on the books of the participants.
Some may argue that all of this competition is good for the Customers. However, history has proven that this is not the case.
While Customers may enjoy higher debt levels and lower prices as a result of the competition, as the economy slows, so do revenues. Thus, under normal debt levels, Customers' profits would suffer, but little else. However, under the higher debt levels offered by the “uneven” competitors, Customers have a difficult time meeting debt service payments. Intermediaries and Contractors with higher risk, lower returns, and under-funded loss reserves, declare Customer defaults at a record pace. In other words, everyone loses.
One financial product popular in the late 1980's and early 1990's, called “Securitization,” was an attempt to solve funding issues for both Contractors and Intermediaries. Entities could fund Financial Products and then subsequently securitize them (i.e., sell the Financial Products to a shell corporation owned in whole or in part by the entities initially providing the Financial Products); thereby removing the asset and corresponding liability from their books. This allowed participants to fund more Financial Products without having to raise equity levels. As Securitization grew in popularity and competition increased, it was subsequently marketed as a “risk management” tool as well as a finance tool. However, “Securitization” actually increased risk because the same participant structured and monitored the Financial Product, and was ultimately on the hook for any losses. Only now, the participant was able to grow beyond the prudent level of its equity base. As such, in the late 1990's, the Securitization market collapsed as participants went bankrupt and their investors lost a lot of money.
Even with the Securitization failure fresh in their minds, the Intermediary community continues to dedicate resources in the search to leverage their distribution capabilities (i.e., marketing), and their main resource, low cost of funds, throughout the lending market. However, to do so successfully the Intermediaries need to find a way to manage (i.e., lower or eliminate) their risk.
During the same time that Loan Securitization became popular, several niche finance companies introduced “partnering programs” allowing Intermediaries to utilize their marketing and low cost funds in tandem with the Financial Product structuring and monitoring expertise of the niche finance company. These “partnering” products seemed to be an improvement over Securitization in that risk is shared between the participants. However, Intermediaries were earning less than half the revenue associated with the Financial Product while remaining exposed to at least half of the risk (and in some cases more than half of the risk). The niche finance companies that push these programs are, on the other hand, quite comfortable earning premium risk adjusted returns at the Intermediaries' expense.
Intermediaries are continuously looking for products that reduce or eliminate risk. Intermediaries are also interested in being able to provide a full range of Financial Products for its customers, even in areas the Intermediary normally would avoid if acting solely on its own. For example, a particular Intermediary may on its own, avoid providing Financial Products for a specific industry or market (e.g., construction loans).
According to the present invention, Intermediaries and Contractors can effectively collaborate to their mutual benefit, taking advantage of each other's strengths to provide a full range of Financial Product for the Intermediaries customers. This invention opens the door for increased access for the Contractors to the Customers (and vice versa), while eliminating risk for the Intermediaries. The lower cost of funds provided by the Intermediary makes the collaborative product more competitive while saving money for the Customer.